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Referred to as tax-paid investments, investment bonds are taxed by the fund manager at the corporate tax rate of 30% subject to being held for a minimum of 10 years and do not need to be reported on an investor's tax return. Where investment bonds or insurance bonds are withdrawn within ten years of the investment initially being made, additional tax may be payable by the investor as shown in the table below.
| Withdrawal |
Tax Payable |
| Within 8 years |
All earnings will be taxed at the marginal tax rate of the investor with a tax offset of 30% |
| During the 9th year |
1/3 of the earnings are tax paid with the remaining 2/3 taxed at the marginal rate of the investor with a tax offset of 30% of the assessable amount |
| During the 10th year |
2/3 of the earnings are tax paid with the remaining 1/3 taxed at the marginal rate of the investor with a tax offset of 30% of the assessable amount |
| After 10 years |
All investment bond earnings are tax paid |
The 125% Rule
The 125% rule can make investment bonds an even more tax-effective investment strategy. In subsequent years, additional investments of up to 125% of the previous year can be made to an investment bond, and provided the investor does not make any withdrawals, the additional contributions to an investment bond do not need to be invested for a full 10 years before acquiring a tax paid status.
The example below shows how on an initial investment of $10,000, an investor can take advantage of the 125% rule by making additional investments of up to 125% of investment contribution of the previous year. As shown, a contribution of $74,506 can be made in the 10th year and still have a tax paid status after only one year. If the term of the investment bond is extended beyond 10 years, the investor can continue to take advantage of the 125% rule. However, if a contribution is not made in any one year, any further contribution will start the 10 year period again for the whole invested amount.
| Year |
Contribution |
1
|
$10,000 |
2
|
$12,500 |
| 3 |
$15,625 |
| 4 |
$19,531 |
| 5 |
$24,414 |
| 6 |
$30,517 |
| 7 |
$38,147 |
| 8 |
$47,684 |
| 9 |
$59,604 |
| 10 |
$74,506 |
Life Insurance & Estate Planning
An added feature of investment bonds is that they developed from, and still are, a form of life insurance (this is why they are also often referred to as insurance bonds). When an investment bond is taken out, a life to be insured and a beneficiary are nominated, and if the life insured dies, the full surrender value is paid to either the policy owner (if different from life insured) or to nominated beneficiaries (if the policy owner is the same as the life insured). In the event that the life insured dies, there will be no tax liability for the beneficiary.
Investing for Children
A special tax scale is applied by the government to the taxable income of a child as a way of discouraging adults from transferring assets to their child’s name to reduce tax payable. For a child the first $416 of ‘unearned’ income is tax-free, but amounts over $416 and up to $1444 can be taxed as high as 66%, and amounts over $1445 are taxed at 47%. By investing in an investment bond the special tax scale applied to a child’s investment income can be avoided. As detailed above, investment earnings would be taxed a fund manager level, and at the end of the 10 year term all proceeds would be tax free. |
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| Education Savings Plans | Education Savings Plans are another type of tax-paid investment to prepare for the education of a child.
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